On September 16, 2017, Governor Jerry Brown signed Assembly Bill (AB) 131, reaffirming AB 398, which expanded and modified California’s partial sales and use tax exemption for qualified manufacturing and R&D equipment.
AB 398 amends California Revenue and Taxation Code Section 6377.1 to include certain agricultural businesses and electric power generators within the scope of the tax exemption. It also extends its sunset date from June 30, 2022, to June 30, 2030.
Background
On July 1, 2014, California implemented a partial state sales tax exemption for qualified persons who purchase qualified tangible personal property used in manufacturing and R&D activities. The tax exemption was originally set at 4.1875% and reduced to 3.9375% on January 1, 2017—where it will remain through the sunset date.
To qualify for the exemption, the following criteria must be met:
Qualified Person
The purchaser must be a qualified person, which is defined as anyone who’s primarily engaged in the line of business described in North American Industry Classification System (NAICS) Codes 3111–3399, 541711, or 541712.
Qualified Tangible Personal Property
The purchased tangible personal property must be one of the following items:
- Machinery, equipment, and component parts that have a useful life of one or more years for state income or franchise tax purposes
- Items used for pollution control that meet standards established by state or local agencies
- Special-purpose buildings and foundations integral to manufacturing, refining, fabricating, or recycling processes
- Property that helps operate, control, regulate, or maintain qualified machinery
Qualified Uses
The tangible personal property must be used in one of the following ways:
- Manufacturing, processing, refining, fabricating, recycling, or performing R&D using tangible personal property that’s employed more than half of the time in these efforts
- Maintaining, repairing, measuring, or testing qualified items
- Repackaging finished goods
Items Retroactively Eligible on or after July 1, 2014
Under the new law, in addition to the items described above, the following items are retroactively eligible for California’s partial sales and use tax exemption for years beginning on or after July 1, 2014:
Qualified Tangible Personal Property
Property used primarily in the generation, production, or storage and distribution of electric power that’s purchased by:
- A contractor for use in a construction contract for a qualified person
- A qualified person
Generation and Production
The activity of making, producing, creating, or converting electric power from sources other than a conventional power source. A conventional power source is defined in Section 2805 of California’s Public Utilities Code (PUC) as power derived from:
- Nuclear energy
- Operation of a hydropower facility greater than 30 megawatts
- Fossil fuel combustion
These power sources are no longer conventional when cogeneration technology is used, however. Cogeneration technology is defined as the sequential use of energy for the production of electrical and useful thermal energy.
Although the generation and production of electrical power is a qualifying activity, its qualification for the partial exemption is limited to manufacturing and R&D activities until January 1, 2018.
Useful Life
Additionally, property deducted for California state income or franchise tax purposes under PUC Sections 17201, 17255, or 24356 is now deemed to have a useful life of one or more years. Previously, items that weren’t capitalized didn’t qualify for this partial exemption even if they had a useful life of one or more years. As a result of the new law:
- Outstanding and unpaid deficiency determinations and related penalties and interest on property that meets the new definition of a one-year useful life will be cancelled.
- Tax paid on property that meets the new definition of a one-year useful life will be refunded.
June 30, 2018, is the deadline for a qualified person to request the cancellation of a debt or refund of taxes paid on property that meets this new definition.
Items Eligible on or after January 1, 2018
Effective January 1, 2018, the following are also eligible for the exemption:
Qualified tangible personal property. This includes special-purpose buildings and foundations integral to the generation, production, storage, or distribution of electric power.
Qualified persons. Agricultural business activities as well as electric power generation, transmission, and distribution—including solar, wind, geothermal, and biomass—per NAICS codes 22111–221118 and 221122.
We're Here to Help
For more information about this exemption or for help determining whether your business activities qualify, contact your Moss Adams professional or email statetax@mossadams.com.